by John M. Curtis
(310) 204-8700

Copyright June 8, 2008
ll Rights Reserved.

peculators on Wall Street's New York Mercantile Exchange and London's Stock Exchange have pumped more than $40 billion this year into oil trading. Billionaire investor and hedge fund manager George Soros now believes that oil speculation could cause the next stock market crash. Lehman Bros. estimated that over 30% of the price of oil is based on speculation, bidding futures contracts into the stratosphere. Oil prices have become disconnected from normal supply-and-demand laws and are tied to speculators in the U.S. and Europe. Soros believes that the world's biggest funds now speculate in oil as a profitable investment and hedge against inflation. Oil has outperformed the rest of the market and has become the favorite of investment funds looking for quick profits. Without some control over speculative trading, oil will continue to spiral.

      Unlike other speculative commodities like gold, oil and its refined products fuel American industry, transportation and consumer spending. When speculators bid oil through the roof, Wall Street and the oil industry benefits. Other businesses and consumers take a direct hit with spiraling prices punishing the economy. Using oil as a speculative commodity drives the price per barrel higher and higher, directly benefiting stock funds but hurting the economy. Over $250 billion have flooded into commodity-index investing, a 2,000% increase since 2003. “In both cases,” said Soros, “the institutions are piling it in on one side of the market and they have sufficient weight to unbalance it. If the trend were reversed and the institutions as a group headed for the exit as they did in 1987, there would be a crash,” expressing grave concerns about how large funds could break the market.

      Allowing oil to trade as a speculative commodity has pushed the price to record levels, leaving business and consumers holding the bag. Fund managers, like Soros, love to rake in record profits from oil futures speculation. With China and India competing for a finite supply of petrol, there's always enough bad news—dependent on how you see it—to drive oil prices higher. Oil speculation produces an outstanding return-on-investment, a safe bet for fund traders. Soros worries, on the one hand, about a stock market crash while simultaneously trading oil stock index futures. Without some type of controls in New York and London on oil stock index futures, the market will be controlled by speculators. With the economy so dependent of fossil fuels, it seems suicidal for the Securities and Exchange Commission to not impose some kind of restrictions on oil trading.

      Unlike stock trading that requires a 50% margin—or the amount invested financed on credit—commodity training requires on 5%-7%. That permits far less cash invested for a far bigger potential investment. For every dollar invested in oil, it only takes a cash-outlay of 5-7 cents. On the other hand, for every dollar invested in stocks, it takes 50 cents. That discrepancy fuels the kind of wild speculation pushing billions into oil commodity markets for potentially trillions in profits. J.P. Morgan Chase, Goldman Sachs, Citigroup and Morgan Stanley have been hog-wild investing in oil futures, driving prices into outer space. Placing speculative bets on oil futures with so little invested enables large brokerage houses to potentially yield astronomical profits with very little invested. As long as the SEC permits such low margin requirements, money will continue to flow into oil.

      Speculators bidding on futures contracts drive up the spot price of oil, despite the fact that trading has no effect on consumption. Global demand has remained about 85 million barrels a day, with an expected 3%-4% increase a year. Where speculators hurt the spot market is by creating the frenzy leading to bidding wars. Consumers get hurt because as spot prices rise, oil companies and refiners pass the increase immediately to consumers. Wholesalers and station operations are in just as much a squeeze as consumers, though there's evidence of price-fixing in certain markets like California where prices tend to run 20%-30% above the national average. A recent Senate report indicates that up $100 out of current $130-plus spot price is attributable to speculators. Oil speculation makes sure that global supply-and-demand issues have little effect on the price of oil.

      Speculators connected to the nation's biggest investment funds now drive oil prices to unprecedented levels. Current margin requirements for commodities encourage funds to make mega-sized investments with little cash. Fund managers, like George Soros, see oil futures as a profitable investment in an otherwise under-performing market. Unless the SEC changes the margin requirements for oil, fund managers will continue make massive investments, bidding prices into the stratosphere. Trading still takes place on the unregulated Over-The-Counter electronic exchanges, allowing fund traders to operate without a paper trail, causing price manipulation. Congress must pressure the SEC to change margin requirements and require traders to transact business only on the Commodity Futures Trading Commission where trades can be tracked and traders can be held accountable.

About the Author

John M. Curtis writes politically neutral commentary analyzing spin in national and global news. He's editor of OnlineColumnist.com and author of Dodging The Bullet and Operation Charisma.

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